You could run into financial problems if you default on federal student loans. The loan holder may withhold a portion or all of your federal income tax refund in order to pay student loan debt. This is also known as tax garnishment. It is important to address any loans in default before you file your taxes.
Here are some more details about student loan tax garnishment, its workings, and how you can stop it.
What is student loan tax garnishment?
Federal student loans that are in default can be garnished by the holder of the loan. The federal government can use your tax refund to pay your federal student loan debt if you file your taxes.
Private student loan lenders cannot garnish your tax refund. However, if you default on private student loans, the lender may garnish your wages if it sues and gets a judgment.
The federal law governing the collection of debts allows the Department of Education to request that the U.S. Department of the Treasury take money from federal and state income tax refunds as well as Social Security payments. This is known as a Treasury offset.
The Bureau of the Fiscal Service must first send you a notice of intention to offset letter 65 days before the Treasury offset can be initiated. Although you might only receive one notice, you will be subject to tax garnishment until you are out of default or have paid off federal student loan debt.
How to Avoid a Student Loan Refund Offset?
There are many possible consequences to student loans going into default. These can include a negative impact on credit scores and a tax refund offset.
A tax refund offset on student loans can result in less than you expected during tax season and could set you back on your financial goals. Here’s how to avoid a student loan garnishment and tax refund.
My student loan repayments could cause my tax refund to be garnished
It depends on what type of defaulted student loans you have. Although defaulting on private student loans will not result in a Treasury offset, it could lead to wage garnishment if the lender sues. However, if you default on a federal student loan, your tax refund could also be garnished.
Here’s how to get a tax offset if you are behind on your federal student loan payments
- Most federal student loans: 270 days past due
- Federal Perkins Loans: If you miss a single payment,
Your tax refund may be subject to a Treasury offset. To prevent garnishment, the loan holder must mail a notice to you 65 days prior to the offset begins.
How to avoid student loan tax garnishment?
Here are some options to help you avoid student loan tax garnishment.
- Federal consolidation — If your federal student loans have been defaulted upon, you can consolidate all of your federal student loans into one Direct Consolidation loan. Consolidating your loans will result in only one loan that you have to repay. If you wish to be exempted from default, you will need to agree to repay the Direct Consolidation Loan in accordance with an income-driven repayment schedule. You can also make three consecutive monthly, in-full payments on the defaulted loan prior to consolidating it. Your interest rate for federal student loan consolidation will be a weighted combination of your existing loans. Therefore, your new rate could be higher or lower.
- Forbearance or deferment — These options can help you gain more financial stability by temporarily putting off your federal student loan payments. In most cases, interest will still accrue.
- Loan rehabilitation — While it can help you out of default, it may not stop tax garnishment or wage garnishment until the rehab is completed.
- Income-driven repayment (IDR), plan — When you sign up for an IDR Plan, you take your income and family size into consideration to determine a monthly payment amount that you can afford. This will help you avoid default. It will be necessary to recertify your income each year. This can make it difficult to predict how much your monthly payments will be over the life of your loan.
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- Federal student loan forgiveness If you are eligible for federal loan forgiveness you will no longer owe money on your loans. Some forgiveness programs only allow partial amounts to be forgiven. You won’t need to worry about student loan tax offsets. You will need to fix student loan defaults before you can get loan forgiveness.
- Private student loan refinance — You can switch to a private lender to replace your existing loan, with a lower interest rate and smaller monthly payments. If you have defaulted on loans, it might be difficult to get refinanced. However, a cosigner may help. Be careful before you refinance federal student loans to a private loan. You will lose federal protections such as deferment, forbearance and IDR plans.
Bottom line
You can deduct student loan payments from your tax refund if you default on them. It is important to read tax notices if you have fallen behind on student loans. Contact your servicer and the Department of Education for assistance in restoring your student loans. If you have a student loan offset due to tax, contact the Treasury Offset Program for information on how to stop the offset from being applied to your tax refund.
